Ethics and the financial system – extending the themes of the Vatican’s 2018 letter, and lessons for educators and professional development Philip Booth, Professor of Finance, Public Policy and Ethics, St. Mary’s University, Twickenham December 2018 Abstract The 2018 Vatican letter on the financial system helped develop Catholic social teaching in the area of finance and the economy. A substantial part of the letter was devoted to the importance of ethics in economic life. This is an important message. It is argued in this paper that, as social teaching in this field develops further, there should be more focus on the importance and development of the virtues. These can be taught and formed in the home, in schools, in universities and in professional development courses. The letter reaffirmed earlier teaching on the need for regulation. Further consideration might lead us to question the efficacy of statutory regulation, and especially international regulation. However, there are many bodies other than government that can regulate markets and Catholic social teaching has a long history of emphasising the importance of such institutions: this is another theme for further development. Introduction The recent Vatican letter, Considerations for an ethical discernment regarding some aspects of the present economic-financial system’1, examined the relationship between ethics and economics in the context of contemporary issues in finance. It was a contribution to the reflection that has been taking place about these issues since the financial crisis. It also marked a continuation of the development of Catholic social teaching in this area building, for example, on Caritas in Veritate, issued by Pope Benedict XVI in 2009. This paper begins by discussing the importance of ethics in economics. It then considers the importance of the key messages in the early parts of the Vatican’s 2018 letter. It is argued, both in this paper and in the letter that, whilst economists may wish to pursue certain questions and lines of inquiry without reference to normative ethics, a rounded treatment of economics and finance demands a consideration of ethical questions. As such, Catholic social teaching in this area is of crucial importance. A number of areas in which the themes of this part of the letter could be further developed in future work on Catholic social thought are identified. The first is the importance of the practice of the virtues in economic life. Whilst the word “virtue” does not appear in the letter, the underlying importance of the virtues is not entirely ignored. However, it could be argued that a full and explicit consideration of the practice of the virtues would help to unify various aspects of the message. The Vatican’s letter moves on to discuss a range of practical issues to do with financial markets and their regulation. Such discussion is legitimate in the corpus of the teaching of the Catholic Church. However, this paper argues that some of the questions raised would also benefit from more reflection on the importance of virtue 1 This is a long title in the English language version and it will be described as the “Vatican’s 2018 letter” or “The Vatican’s 2018 letter on the financial system” or simply “the letter” below. 1 ethics in this context also, including in teaching and professional development. In addition, when it comes to regulation of the financial system, further consideration of the nature of the human person and the proneness to frailty of human persons in all contexts in which they operate might have led to different conclusions about the efficacy of government regulation. In turn, this should lead to an investigation of the possibilities for regulating financial market activity through market institutions and institutions of civil society. Such institutions have been important in a number of countries at different times in history and are strongly emphasised in other areas of Catholic social teaching. The difficult of perfecting, or even improving, market outcomes through statutory regulation then takes us back to a consideration of the importance of virtues in dealing with the specific problems that arise from financial innovation. The virtues are also needed when it comes to determining whether regulation is the right approach to dealing with problems that arise from innovation and, if so, what type of regulation is appropriate. Virtue in public life can help legislators reach better solutions. The importance of virtue in public life, a key feature of the tradition of Catholic social teaching, should be taught in politics and citizenship courses. In addition, an understanding of disciplines such as public choice economics will help us appreciate the limitations of government action based on a realistic interpretation of the nature of the human person. Implementation and further development of the themes of the letter requires knowledge of various strands of economics, political economy, finance, philosophy and virtue ethics. Indeed, the letter makes an important point at the very beginning: “[A] synthesis of technical knowledge and human wisdom is essential. Without such a synthesis, every human activity tends to deteriorate. But where it exists, it can foster progress towards the integral and concrete well-being of the human person.” (1) To use academic jargon, a truly inter-disciplinary approach is necessary when thinking about how financial markets can operate for the common good and how people should operate within them. The domain of ethics in economics The importance of finance The financial sector has frequently comes under attack and scrutiny has intensified since the financial crisis. Lord Turner, who was Chairman of the financial regulator (the Financial Services Authority) in the UK from 2008-2013, claimed that much of what went on in the financial sector was ‘socially useless’. His report, Turner (2009), mentioned a number of the concerns later raised in the Vatican’s 2018 letter. One of the reasons why the financial sector comes under attack, even when it seems to be performing well, is that the purposes of financial institutions are difficult to understand because what it produces is not tangible. The sector makes possible forms of economic activity that would not otherwise be possible. Without banking2, all economic exchange would have to be facilitated through barter or a commodity money such as gold. The financial sector provides households with a secure place to save in a way which hugely reduces risks and the costs of assessing potential borrowers whilst simultaneously ensuring that individuals and businesses can borrow to buy houses, finance business operations, and so on. Furthermore, in most situations, businesses 2 Or related institutions such as money market mutual funds. 2 can borrow over a long time period whilst households that save can access their capital instantly. Without these functions being performed efficiently, much real economic activity would be impossible. Given this, perhaps it was not surprising that the Vatican’s 2018 letter suggested that: “Here financial activity exhibits its primary vocation of service to the real economy” (16). However, the financial sector does not just exist to serve the real economy. Without a thriving financial sector only the very wealthy or those who had very strong family ties would be able to retire. The financial sector allows people to invest in a diversified range of companies, reducing the transactions costs of analysing those companies for creditworthiness and their long-term ability to thrive, thus facilitating pensions saving and retirement. Without insurance, people would live in fear of their home being destroyed: insurance companies pool risks, thus benefiting people on ordinary incomes who could not afford the financial catastrophe that arises from insurable events. So, the financial sector has intrinsic functions too. Choosing ends and means Neither the Vatican’s 2018 letter nor the 2009 papal encyclical Caritas in Veritate dismiss the financial sector as such. But they do highlight the need for ethical behaviour in the sector. This was put very succinctly by Pope Benedict XVI in Caritas in Veritate, 36): Economy and finance, as instruments, can be used badly when those at the helm are motivated by purely selfish ends. Instruments that are good in themselves can thereby be transformed into harmful ones. But it is man's darkened reason that produces these consequences, not the instrument per se. Therefore it is not the instrument that must be called to account, but individuals, their moral conscience and their personal and social responsibility. Of course, finance is only a subset of wider economic activity and thus reference to ethics in finance should lead us to consider the wider question of ethics in economic life more generally.3 Many schools of economics have tended to separate economics from ethics in the last century or so4. An aspect of this tendency has been the trend for economic modelling to become more abstract and mathematical. However, Professor Lord Robbins, who was one of the greatest historians of economic thought of the 20th century, did stress that economics involved the study of human behaviour. Specifically, in Robbins (1932), he defined economics as: "the science which studies human behaviour as a relationship between ends and scarce means which have alternative uses". Robbins, of course, was influenced by the Austrian school which would tend to define economics as the study of purposeful human action in the economic sphere. 3 There is an excellent discussion of economic technique and its relationship with ethical reasoning in Yuengert (2004). It is a short book which would make excellent reading material for an undergraduate PPE course or for any teacher of economics. 4 For example, Keynes encouraged a focus on aggregate variables rather than on personal action. The Chicago school has tended to narrow the focus of economics to non-ethical questions, though it has pioneered the study of crime, the family and so on, but through a positivist lens.